Week Ahead: No News May Be Good News for Stocks

Stocks ride the tailwinds of central bank promises into the week ahead, and could continue to drift higher in the absence of any nasty surprises from Europe.

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There are a few economic reports, and a steady stream of earnings news, including retailers Macy’s and JC Penney. But after major meetings this past week where both the Federal Reserveand European Central Bankheld out the idea of more quantitative easing, the markets could coast in anticipation of central bank action in the fall.

“It’s a very thin calendar,” said Art Cashin, director of floor operations at UBS. “This was all about Europe. They’ve got to keep their act together for the next couple of days … Technically, the market looks like it’s trying to break out to the upside.”

While Fed Chairman Ben Bernanke appears twice in speaking engagements in the coming week, his next major speech is not expected until he attends the Fed’s Jackson Hole symposium at the end of the month. It was at that event two years ago that he discussed quantitative easing, and traders are hoping for a repeat performance, anticipating that QE3, or that a third asset purchases could be announced when the Fed meets in September.

Stocksrallied to a three-month high in the past week, helped by more assertive language from the Fed Wednesday. But the market rose sharply Friday after the July employment report showed a surprise gain of 163,000 jobs to nonfarm payrolls, breaking a string of disappointments. Stocks and the euro were also lifted by optimism that ECB President Mario Draghi’s promises for ECB action would take shape in the next several weeks. The Dow, up for a fourth week, gained 217 points Friday, but was up just 0.2 percent for the week to 13,096. The S&P ended the week up 0.4 percent at 1390, and the Nasdaq was up 0.3 percent at 2967.

“There’s not a lot of things for the markets to be afraid of. This week was full of event risk,” said John Briggs, senior Treasury strategist at RBS. “We are through that, and the markets are coming out with some confidence when it comes to risk assets. With the markets not having a lot to be afraid of, and no blatant ‘risk off’ events on the calendar, we’re looking at auction supply.” The Treasury auctions $72 billion in 3- and 10-year notes, and 30-year bonds Tuesday through Thursday.

“The path of least resistance is higher yields,” Briggs said. “I think we could get the 10-year (yield) up to 1.70 through the auctions.” The 10-year yield was at 1.575 percent Friday.

The July employment report was strong enough to boost confidence slightly about the sluggish economy, but also keep alive the idea that the Fed will restart its asset purchase programs, which have been positive for equities. The unemployment rate rose to 8.3 percent, from 8.2 percent, reflecting the increase in individuals seeking work.

“It was the perfect elixir,” said Mark Luschini, chief investment strategist at Janney Montgomery Scott. “Good enough to say the economy has some inertia, but it wasn’t so good that the Fed puts its gun in its holster. QE3 is alive and well. We may get some foreshadowing of that out of Jackson Hole.”

Luschini said the idea of Fed and ECB easing could keep stocks aloft. “What could undermine that is some action out of the European community,” he said.

Many economists also expect the Fed to announce a new QE plan at its Sept. 12 meeting, and this time the estimated $500 billion program could involve mortgage securities. “You get the biggest bang for your dollar by stimulating a sector that’s already beginning to heal,” said Diane Swonk, chief economist at Mesirow Financial. Housing has been showing signs of a pickup over the past couple of months, as other data, such as manufacturing data in this past week’s ISM, shows signs of slowing.

Pull Back or QE Highs?

Deutsche Bank chief equity strategist David Bianco said while markets rallied this past week, there may be some more bumps ahead in the near future. He said investors could get impatient anticipating central bank easing and while promises were made, the lack of concrete plans and action from Europe is a risk for markets.

“We think the market is at risk of a dip — a five to 10 percent pullback — not a full-blown correction, but something that could get us back to the lows of early June,” said Bianco.

Bianco said while the July employment report was encouraging, the U.S. ISM manufacturing survey and PMI manufacturing data from around the world were disappointing. U.S. data showed contraction in the manufacturing sector, a source of strength during the recovery, for the second time since July 2009. The weak numbers are a negative sign for corporate profits, he said.

“We think the third-quarter earnings are likely to be down year over year … that doesn’t happen too much outside of recessions,” he said. Bianco said he does expect stocks to do better later in the year.

“I do think the risk is we break to the downside before we make a major move to the upside,” he said.

What Else to Watch

Investors will continue to watch the saga around Knight Capital, which reported a more than $400 million loss after a software program triggered a major trading snafu. The firm Friday was seeking capital, but the incident was another black eye for Wall Street, coming quickly on the heels of the Facebook IPOtrading debacle.

“It’s just one more reminder to retail investors that something is amiss,” said Luschini. “After the flash crash and everything else they’ve gone through, this is just unsettling.”

Luschini said most of the action affecting markets in the coming week could come from Europe, but the discussion around the U.S. “fiscal cliff” is getting louder. The “cliff,” is a term coined for the double expiration of tax cuts Dec. 31 and beginning of automated spending cuts Jan. 1.

“It’s a story in which one has to stay tuned because we may not have any clarity on that between now and the end of November,” he said.